It is unfortunate that RBI, through deputy governor Viral Acharya’s speech, came out so strongly against the government last week, and the analogy he started the speech with probably made things worse. Public airing of bad blood between the government and the central bank must always be avoided, given the impression it gives market participants.
Also, Acharya talking about how Argentine bond markets taught the government there a lesson after it transferred $6.6 billion from the central bank to itself seemed like it was an invocation to Indian bond markets should the Modi government succeed in getting at RBI’s reserves.
That said, restraint is not something that just RBI needs to be practising; the government’s sniping at RBI is quite public and the constant questioning of the central bank’s stance on reining in various public sector banks through the use of its Prompt and Corrective Action (PCA) scheme is unfortunate since it makes it clear the government doesn’t trust RBI’s view.
And while the impression given by the government is that RBI has been sleeping on the job—and it is this that the government is trying to fix—it would be a very brave man who would say only the central bank’s actions are causing a problem. This newspaper believes RBI raising repo rates hurts the economy— not everyone subscribes to this view—but rates go up even when government borrows too much, even if through surrogates since bond markets recognise this for what it is; FE estimates Rs 1.7 lakh crore of ‘extra budgetary resources’ will be raised in FY19.
And if, as the government says, RBI is guilty of not detecting the bad loans of banks in time or figuring out the IL&FS mess despite it being a systemically important NBFC, much of this applies to the government as well. As the owner of PSU banks, it needed to know what was happening and that is why it had its directors on these banks. As for IL&FS, apart from RBI, others who were clueless were members of the Financial Stability and Development Council which is headed by the finance minister and includes many finance ministry bureaucrats; more important, the top shareholders of IL&FS include LIC, SBI and Central Bank of India.
This is not the first time RBI and the government have clashed, and it is certainly okay for the government to have a different view from the central bank on PCA and other issues. But no regulator can work if its views are constantly questioned by the government in public. A better way to sort out these differences—and to come to a conclusion, which is what really matters—is to have a larger debate with technical experts weighing in. When then CEA Arvind Subramanian recommended sequestering a part of RBI’s reserves as they were “excess” and then RBI Governor Raghuram Rajan said this displayed a lack of understanding of how RBI functioned, the government should have converted this into a larger debate.
Trying to get its way in a boardroom brawl at RBI, as is happening right now, makes little sense since not enough experts have weighed in on the issue. Surely, a weak RBI without enough funds to carry out its essential tasks cannot be something the government would want, no matter how cash-strapped it is right now? The government would similarly benefit if there was a larger debate on whether the PCA framework should be relaxed; after all, if these banks had collapsed as they kept lending indiscriminately, the country would have been in the throes of a full-blown financial crisis.
Given how the financial system looks weak with the banks still not out of the woods—and IL&FS threatening to make things far worse, and not just in the banking sector—the country needs both RBI and the government to work together, not snipe at one another. Though this newspaper disagrees with inflation targeting as a policy, as Acharya has pointed out, when government and RBI have worked together, they have come up with strong policies they have both agreed upon—he mentions inflation targeting and stopping the automatic monetisation of government deficits as two success stories.
Finance minister Arun Jaitley would do well to initiate this patch up instead of leaving it to his bureaucrats who are only making things worse. While RBI would benefit from larger consultations as the FM has suggested, his statement that regulators aren’t accountable while politicians are would suggest it is time to wind up all regulatory bodies; surely that cannot have been his intention?
-The author is associated with Bloomberg. This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
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